The Federal government has historically only provided about 7% of funding for public schools. These schools are operated typically by the municipal government. These governments are given a charter by the state. The state can take over these school systems if they are proven to fail at educating their students or if they become insolvent.
The Federal government doesn't take over the school systems and does not operate them (except for the DOD system).
The Federal government sets up GUILDLINES for these systems. As with most other federal mandates they use the carrot of FUNDING to force the school systems to comply with the mandates.
THE ONLY SCHOOLS THAT HAVE BEEN THREATENED WITH HAVING THEIR FUNDS REDUCED ARE SCHOOLS THAT HAVE SYSTEMATICALLY FAILED TO PREFORM. The "funding reduction" that you speak of IS ONLY THE FEDERAL FUNDING. The feds cannot force a school to close down due to lack of performance.
The "punishment" that you speak of upon these schools is to GIVE VOUCHERS TO THE PARENTS OF STUDENTS WHO WANT THEM, allowing them to ESCAPE THE FAILING SCHOOL and obtain education from another source.
This is an important notion MBM - ARE YOU FOR THE INTERESTS OF THE STUDENTS OR FOR THE SCHOOL SYSTEM?
What other service provider is allowed to give years of crappy service that is below the standard and demand that more good money be sent after bad for them to continue?
WHAT MOTIVATION DO THEY HAVE TO CHANGE FOR THE BETTER?
What if you web hosting company had outages everyday for a year? They then raise your monthly prices by 10% with promises to do better. At the end of another year - they still have outages and seek more funding. Do you figure that you would continue using their services?